The Rising Influence of Rising Affluence

[DewDiligence]

Oxy’s Path to Easy Oil

[“We're in the oil recovery business, not the oil discovery business!”]

http://www.forbes.com/free_forbes/2010/0329/outfront-oxxy-irani-oil-exxon-energy-oil-oil-everywhere.html

›by Christopher Helman
03.29.10 [newsstand date of printed issue]

Occidental Petroleum is the untrendiest of the big oil companies. Unlike its bigger rivals, Oxy has no refineries and no interest in Canadian oil sands, liquefied natural gas or deepwater prospects. The Los Angeles company is unabashedly partial to oil, with 73% of its reserves in crude [see table in #msg-45326827]; most operators are more than half natural gas.

Now Occidental is breaking ranks in another way, by upsetting the commonplace view that the days of "easy oil" in the U.S. are over. Last year Oxy announced a new find outside Bakersfield, in Kern County, Calif., which is shaping up to be the biggest onshore oil discovery the U.S. has seen in three decades. It likely holds more than 1 billion barrels of oil (and natural gas equivalents) that will be easy and cheap to extract.

That the gusher is situated in a hydrocarbon basin that has been picked over for 100 years validates the philosophy extolled by Oxy President Steven Chazen and Chief Executive Ray R. Irani: The best place to find new oil is in old oilfields. It also raises the tantalizing prospect of lots more easy oil awaiting discovery in the U.S. That would not only help reduce reliance on foreign oil but also be far cheaper than deepwater oil—it costs roughly $10 per barrel to get oil out of this ground versus $30 (including extraction taxes and royalties) or more for deepwater projects [these figures vary widely from project to project, of course]. "It's similar to the economics you have in the Middle East," says Irani.

Within two years the field could be producing 100,000 barrels a day, putting it among the busiest five fields in the U.S. That would be enough to generate net income of $1 billion a year, a nice bump for a company that already boasts higher net margins than any other big oil company, with $3 billion earned on $18 billion in revenue last year. "This find is a real game changer," says Douglas Leggate, oil analyst with Bank of America, "and not just for Oxy." He thinks the reservoir is 20,000 feet underground and could stretch 50 miles to the north through acreage controlled by Chevron (which has a minor stake in Oxy's find) and Aera Energy (a joint venture between ExxonMobil and Royal Dutch Shell).

The secret to Oxy's success: no wildcatting. "We're in the oil recovery business, not in the oil discovery business," says Chazen, 63. Nearby the find is a 100-year-old field called Elk Hills, which Oxy bought from the federal government in 1998 for $3.6 billion. The deal was sponsored by then Vice President Gore as part of his "Reinventing Government" initiative--that is, getting bureaucrats out of the business of operating oilfields. Oxy was criticized at first for paying so much. The company installed equipment that scrubs out more oil by injecting steam and detergents. Despite pumping out 400 million barrels in a decade, Elk Hills now has more reserves than when Oxy bought it. Oxy has expanded its position in California to 1.3 million acres.

Irani, 75, took over Oxy upon the death of chairman Armand Hammer in 1990. Four years later he brought in former investment banker Chazen. By 1997 they had jettisoned a mishmash of assets assembled by the megalomaniacal founder. Emboldened by success at Elk Hills, Oxy in 2000 paid $3.6 billion for Altura, a JV between BP and Shell in the Permian basin of Texas. The fields looked depleted. Oxy ramped up injection of carbon dioxide--which coaxes oil out--and has tripled its Permian acreage, buying out 21 operators last year. Oxy gets 200,000 barrels a day out of the Permian, up from 130,000 in 2000. No company produces more oil in Texas.

Libya is proving tougher than California or Texas. In 2005, when the international community withdrew sanctions against Libya, Irani was first in line at Muammar Qaddafi's tent to negotiate the terms of Oxy's return to the country. But results so far have been a disappointment, says Irani. Worse, Libya's national oil company has balked at funding its portion of costs. "When prices collapsed, they couldn't afford to put up their share," says Irani. As a result, Oxy currently nets only 6,000 barrels a day from Libya, down from 21,000 two years ago. "The historical importance of Libya to Oxy is a lot more than the future importance," he says.

Though Irani lives in Beverly Hills, he spends nearly as much time in the Middle East. Oxy operates in Bahrain, Qatar and Oman. A new contract in Iraq to redevelop the Zubair field will stretch the bounds of Oxy's technical and diplomatic know-how [#msg-45600810]. Zubair is already producing 200,000 barrels a day, and there's enough oil there, 4 billion barrels or so, to push that number up to 1 million BPD if the capital investment were great enough. Yet, as in Libya, the government has limited funds. Though Iraq has enough oil in the ground to rival Saudi Arabia, its production is merely a quarter of the latter's 8 million barrels a day. Iraq "ain't going to be doing 10 million in five, six years," says Irani. Still, even under contract terms paying Oxy (and partners Eni and Korea Gas) just $2 per barrel, Irani thinks Oxy will be able to make a good return on a capital investment of no more than $1 billion [maybe].

Irani has for years placed poorly in forbes' Best Bosses for the Buck rankings for landing pay/option packages topping $100 million a year. Still, he has returned 28% a year to shareholders over the last decade. Irani owns $650 million worth of Oxy shares. He says he won't mind giving up his slot as the company's best-paid employee to Andrew Hall, president of oil trading firm Phibro. Oxy bought Phibro for $370 million from Citibank last year after Hall's $100 million performance-based pay package drew ire from politicians. "I'd like to pay him a billion; I'd be a very happy shareholder," he says. In five-year average return on capital Oxy, at 21%, trails only ExxonMobil. Debt is 5% of total capital versus 30% at Anadarko Petroleum and Devon Energy. "Oxy is the best steward of capital in the industry," says analyst Leggate. "They're like Exxon but with growth." Why not raise cash to buy up more aged oilfields? Oxy says it already has enough projects to expand oil and gas output 5% a year. At what point will Oxy get so big that it can't grow at the same rate? "I'll be dead by then," smiles Irani. He corrects himself: "We don't see a problem for the next decade or so."‹